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MSJG TAX 1 Chap 3

Mar Sean Jan Gabiosa

Chapter Notes
Income Taxation 7th edition Valencia and Roxas
Chapter 3 Concept of Income
Rule-of-thumb test for determining income for tax purposes is the increase in the
net worth.
Increase in value of property is not income.
Net worth method is used for taxpayers which has no accounting records.
Total assets Total liabilities = Net worth (net taxable income)
Net worth ending
Net worth beginning
Add: Personal Withdrawals
Nondeductible items
Less: Additional Investments
Nontaxable items
Personal Exemptions*


*Basic personal exemption of individual taxpayer is 50,000. Additional of

25,000 per dependent children, maximum of four.
Income is a return on capital (return on investment) not return of capital. [Emphasis
on on not of]
Nontaxable income includes:
Winning from sweepstakes
13th month pay
Other benefits not exceeding 82,000 (R.A. 10653 beginning taxable year
Taxable income is net income. Net income means gross income less statutory
Characteristics of Taxable income
a) gain or profit
b) realized or received
c) by law or treaty, the gain is not excluded from taxation
Income may also be earned partly within and partly without (outside) the
No of days labor in the Phil
Income within =
Total No of days
Total Compensation
Classification of Income
Compensation Income
Profession or Business Income
Passive Income

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MSJG TAX 1 Chap 3

Capital Gain
ITR is a formal statement of the taxpayers taxable income and deductions,
reported in the BIR prescribed form, to be filed and paid using the normal or regular
tax rates.
Normal Tax VS Final Tax
Normal tax is the tax imposed on regular earnings; regular/customary/ordinary tax.
Final tax is the term used for tax which have been subjected to tax payment and
may no longer be reported in taxable income.
Normal tax Report in the year-end ITR
Compensation income
Business/Professional Income
Other passive income and capital gains not subject to final tax
Final tax For disclosure only, no need to be taxed again
Interest, dividend and royalty
Sales of real property, and stocks classified as capital asset
Income may be received in the form of cash, property, and service.
When approved by the BIR commissioner, a change in accounting period will
require a separate tax return made from the close of the former accounting year to
the close of the new accounting year.
Cash method income is reported in the year of collection whether earned and/or
Accrual method - when earned and incurred
Installment method the reportable income derived on this sale is the proportion of
collection actually received during the year to the gross profit and contract price.
Gross profit
Reportable income = Installment received

Contract Price
Selling Price
Add: Cash received
Fair market value of property
Installment obligations
Mortgage assume by the buyer
Contract Price
Add: Selling price
Excess of Mortgage over cost
Less Mortgage assume by the buyer
Initial payments
Add: Downpayment
Installment received
Excess of mortgage over cost
Annual Installment Payments
Add: Selling price
Less: Initial payments

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MSJG TAX 1 Chap 3

Mortgage assume by the buyer

Then, Divide by years of payment
Capital gain tax is 6% of the selling price.
Installment Sale of Personal Property
If the initial payment exceeds 25% of the selling price of the property, the
reportable income in the year of sale would be the whole gross profit. However the
rule does not apply to dealers who regularly sell on installment basis.
Installment Sale of Real Property
If the initial payments do NOT exceed 25%, capital gains tax of 6% is imposed
on selling price or zonal value whichever is higher.
#For short, mortgage assumed by the buyer is not included in the contract price
because he did not want to pay for it. But because it is assumed by him(buyer) he
shoulders it.
Income from Construction Contract
Completed contract method/ Cost-recovery method
Percentage of completion
Farming business all individual, partnerships, or corporations that manage and
cultivate farms for gain or profit are designated farmer.
They derive income from
a) Farm products raised;
b) Trading of farm products purchased; and
c) Other farm income
In accrual basis for computing gross income derived from faming, ending inventory
is part of gross income while beginning inventory is deducted from gross income
(reverse way of adding beginning inventory and deducting ending inventory in
computing gross sales)
Crop basis is employed when crops shall be harvested more than one year from
time of planting.
Income from crop realized
Less: Entire cost of producing